CFA Space

BEHAVIORAL FINANCE
THE
BEHAVIORAL
FINANCE
PERSPECTIVE
THE
BEHAVIORAL
BIASES OF
INDIVIDUALS
BEHAVIORAL FINANCE
AND INVESTMENT
PROCESSES
周昆教授 CFA 知识系列讲座
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THE BEHAVIORAL FINANCE PERSPECTIVE
1. Traditional vs. Behavioral
Finance
3. Bounded Rationality
& Satisfying
(Behavioral Finance)
2. Utility Theory & Prospective
Theory (Traditional Finance)
4. Four Behavioral Finance
Models
Exercise Problem
周昆教授 CFA 知识系列讲座
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Traditional vs. Behavioral Finance
Traditional Finance: HOW?
1.
2.
Behavioral Finance: WHY?
Risk aversion assumption
1. Investors use some combination of
Rational Economic Man (REM) always
traditional finance and psychological
selfishly seek the personal utilitybiases for decision making.
maximizing decision, based on all
2. Attempt to explain why investors make
available information.
such decisions.
3. Decision making based on Bayes’s
3. Micro behavioral finance → describes
Formula:
the decision making process of
P(A│B)×P(B) = P(B│A)×P(A)
individuals. Explain why individuals
4. REM makes decisions confirming to the
deviate from traditional financial
four axioms of utility:
theory.
• Completeness : aware of all available
4. Macro behavioral finance → seeks
choice
to explain how and why markets
• Transitivity : ranking and hierarchy
deviate from what we would term
applied consistently
efficient in traditional finance.
• Independence : If prefer X over Y, adding Z
shall not have any impact on preferences
• Continuity : indifference curves are
unbroken
5. Holistic strategy – consider all goals
simultaneously & using a single portfolio
to meet them.
3
周昆教授 CFA 知识系列讲座
Utility Theory & Prospective Theory
Utility Theory: → CML/SML
Prospective Theory:
assume individuals base decisions on all
available information, investor want to
maximize expected utility given level of
risk, effective frontier graph
place greater value on loss than same amount
of gain, 2 phases:
1. Editing phase : codification (code
outcome as gain or lose), combination
(combine identical outcomes),
segregation (separate the certain and
uncertain components to get better
insight about risk), cancellation – also
called isolation effect (eliminating similar
choices, for example 5% with payoff 1000
and 50% with payoff 100 has same value
but some people focus higher payoff
some people focus higher chances),
simplification (odds of 45 % and 55%
become 50% 50%), detection of
dominance (much better odds will
eliminate lousier one)
2. Evaluation Phase : calculated expected
return by times payoff over odds, tend to
overreact to low probability event,
1.
2.
3.
Risk Averse – diminishing marginal
utility, concave, wealth increase,
utility increase at decreasing rate
Risk seeking – increasing marginal
utility, convex, wealth increase,
utility increase
Risk neutral – linear, unaware of risk
周昆教授 CFA 知识系列讲座
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Prospective Theory: Risk-Averse vs. Loss-Averse
周昆教授 CFA 知识系列讲座
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Bounded Rationality and Satisfying
• individuals act as rationally as possible while recognizing
they are constrained by lack of knowledge, lack of
processing power, then they will make satisfactory choice
(rather than optimization) assuming bounded rationality
applies.
• Gathering what they consider to be an adequate amount
of information and apply heuristics to analyze and shape
the information into an acceptable decision.
• Investor take steps to achieve intermediate goals, as long
as they advance the investor toward the desired goals.
Investor does not necessarily make the theoretically
optimal decision from a traditional finance perspective.
周昆教授 CFA 知识系列讲座
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Four Behavioral Finance Models
Consumption and Saving :
→ framing (affect by the way question
asked), self control (bias when individual
spend more now rather than save more),
mental accounting (different pocket for
different type of expense), classifying
wealth (current income, currently owned
asset, present value of future income)
→ How individual classify in wealth?
Behavioral Asset Pricing:
→ require return + fundamental risk
premium + sentiment premium (more
widely dispersed analyst’ opinion, greater
sentiment premium, higher discount rate
applied to asset’s cash flow and lower
asset’s prices)
Behavioral Portfolio Theory :
→ rather than hold well-diversified
portfolios, investors layer their portfolio
according to goals such as require
return, utility, access to information, loss
aversion etc.
Adaptive Markets Hypothesis (AMH):
→ success in the market is an
evolutionary process such that investor
make decision to help them survive and
satisfice. NOT utility maximization.
→ Risk premium will vary depending on
aversion risk. Invalid Asset Pricing
Models.
周昆教授 CFA 知识系列讲座
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CFA Level III Template for Question: Circle and Explain
Year
Session
Question
2012
Morning
4, 5, 6, 7
2011
Morning
1, 3, 4, 9
2010
Morning
2, 3, 8
2009
Morning
2, 5, 8, 10
2008
Morning
2, 5, 9
2007
2006
Morning
Morning
1, 6, 7
3, 8, 9
2005
Morning
11
周昆教授 CFA 知识系列讲座
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CFA Level III Sample Question (2012): Select (Circle) & Explain
周昆教授 CFA 知识系列讲座
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Exercise Problems
Statement 1
Characteristic
(circle one)
I have always followed a budget and
have been a disciplined saver for
decades. Even in hard times when I had
to reduce my usual discretionary
spending, I always managed to save.
Behavioral Asset Pricing
Behavioral Portfolio Theory
Traditional Portfolio Efficiency
Expected Utility Theory
Mental Accounting Bias
Heuristic and Framing Bias
Prospective Theory
周昆教授 CFA 知识系列讲座
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Exercise Problems
Characteristic
(circle one)
Statement 2
While I try to make decisions
analytically, I do believe the markets
can be driven by the emotions of
others. So I have frequently used
buy/sell signals when investing. Also,
my 20 years of experience with
managers who actively trade on such
information makes me think they are
worth the fees they charge.
Behavioral Asset Pricing
Behavioral Portfolio Theory
Traditional Portfolio Efficiency
Expected Utility Theory
Mental Accounting Bias
Heuristic and Framing Bias
Prospective Theory
周昆教授 CFA 知识系列讲座
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Exercise Problems
Characteristic
(circle one)
Statement 3
Overall, I have always been willing to
take a small chance of losing up to 8
percent of the portfolio annually. I can
accept any asset classes to meet my
financial goals if this constraint is
considered. In other words, an
accepted return -1.645×Expected
standard deviation ≥ -8%
Behavioral Asset Pricing
Behavioral Portfolio Theory
Traditional Portfolio Efficiency
Expected Utility Theory
Mental Accounting Bias
Heuristic and Framing Bias
Prospective Theory
周昆教授 CFA 知识系列讲座
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Exercise Problems
Characteristic
(circle one)
Statement 4
Most of my clients need a well-informed
advisor to analyze investment choices
and to educate them on their
opportunities. They prefer to be
presented with three to six viable
strategies to achieve their goals. They
like to be able to match their goals with
specific investment allocations or
layers of their portfolio:
Behavioral Asset Pricing
Behavioral Portfolio Theory
Traditional Portfolio Efficiency
Expected Utility Theory
Mental Accounting Bias
Heuristic and Framing Bias
Prospective Theory
周昆教授 CFA 知识系列讲座
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Exercise Problems
Characteristic
(circle one)
Statement 5
I follow a disciplined approach to
investing. When a stock has
appreciated by 15 percent, I sell it.
Also, I sell a stock when its price has
declined by 25 percent from my initial
purchase price.
Behavioral Asset Pricing
Behavioral Portfolio Theory
Traditional Portfolio Efficiency
Expected Utility Theory
Mental Accounting Bias
Heuristic and Framing Bias
Prospective Theory
周昆教授 CFA 知识系列讲座
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Exercise Problems
Statement 6
Characteristic
(circle one)
When new information on a company
becomes available, I adjust my
expectations for that company's stock
based on past experiences with similar
information.
Behavioral Asset Pricing
Behavioral Portfolio Theory
Traditional Portfolio Efficiency
Expected Utility Theory
Mental Accounting Bias
Heuristic and Framing Bias
Prospective Theory
周昆教授 CFA 知识系列讲座
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Exercise Problems
Characteristic
(circle one)
Statement 7
When considering investments, I have
always liked using long option
positions. I like their risk/return
tradeoffs. My personal estimates of the
probability of gains seem to be higher
than that implied by the market prices. I
am not sure how to explain that, but to
me long options provide tremendous
upside potential with little risk, given
the low probability of limited losses.
Behavioral Asset Pricing
Behavioral Portfolio Theory
Traditional Portfolio Efficiency
Expected Utility Theory
Mental Accounting Bias
Heuristic and Framing Bias
Prospective Theory
周昆教授 CFA 知识系列讲座
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